Rate Hikes a Distant Prospect for More Upbeat Fed

The Federal Reserve may appear slightly more upbeat on the economy o n W ednesday, though investors should not mistake this cautious optimism for any desire to raise interest rates soon.

Instead, central bank officials will probably reiterate their expectations that official borrowing costs will remain near zero until at least late 2014, and leave open the option to ease policy further if the economy worsens.

"The meeting tomorrow is unlikely to provide any new clues to the Fed's next actions, rather leaving open the possibility of new measures depending on the economic outlook," said Richard Gilhooly, a bond market strategist at TD Securities.

Investors wishing for clues to the prospect of a further easing of monetary policy from the U.S. central bank may be disappointed, leaving the stock market vulnerable to some selling. Analysts will be keen for any hints of action following the end of the Fed's Operation Twist, its latest effort aimed at keeping down long-term rates.

U.S. economic growth has been just firm enough to weaken the case for additional unconventional stimulus through Fed purchases of government or mortgage bonds. Gross domestic product expanded 3 percent in the fourth quarter but was seen slowing to around 2.2 percent in the first three months of this year.

Still, the Fed's policy-setting panel will probably try to curb any premature market expectations for eventual interest rate hikes by repeating its promise to keep rates on hold.

"There won't be much to keep the Fed from their accommodative policies for the foreseeable future," said Victor Li, a former Fed staffer and economics professor at the Villanova School of Business.

The Fed will release a statement outlining its views on policy and the economy at around 12:30 p.m. EDT (1630 GMT) on Wednesday.

While no policy decision appears imminent, the Fed's array of new policy transparency steps should keep economists busy discerning recent shifts in the sentiment of policymakers.

The Fed will release its latest round of quarterly forecasts at 2 p.m. (1800 GMT) on Wednesday and Fed Chairman Ben Bernanke will follow with a news conference at 2:15 p.m. (1815 GMT), where he will likely be peppered with questions on the chances of more easing.

Most analysts think Bernanke will do whatever he can to keep his options open.

Since the central bank's last round of GDP, unemployment and inflation forecasts in January, the U.S. jobless rate has come down to 8.2 percent from 8.5 percent and the financial situation in Europe has stabilized somewhat, although it is still troubling.

In January, the Fed saw the economy growing between 2.2 percent and 2.7 percent. That range may be revised a bit higher. At the same time, unemployment rate forecasts will likely shift down somewhat from January's 8.2 percent to 8.5 percent range.

Policymakers will also offer individual projections for when they think the first interest rate increase should come and how quickly borrowing costs should rise - though these will appear on charts that do not link them to specific officials' names.

"There is a risk that someone with a first (rate) hike in 2014 could drift into seeing that first hike in 2013," said Michael Feroli, an economist at JPMorgan.

If that's the case, the stock market faces the risk of a sell-off as it prices out expectations for further monetary easing from the Fed.

Traders are currently betting the Fed will begin raising rates in April 2014, with short-term U.S. futures contracts suggesting they see a 56 percent chance of a rate hike then.

In response to the deepest recession in generations, the Fed lowered benchmark overnight rates effectively to zero in December 2008 and more than tripled its balance sheet by purchasing some $2.3 trillion in government and mortgage bonds to keep long-term borrowing costs down.

According to a Reuters poll published last week, economists have dialed down expectations for a third round of bond purchases. The respondents now see a 30 percent chance of more bond buys, down from 33 percent in a poll in March.

A report early this month that showed job growth slowed sharply in March kept some hope of easing alive, and economists will look eagerly to the next round of jobs data on May 4 for more clues on where U.S. monetary policy may be heading.